Usury – Always bad or only sometimes?

Over the weekend regular MB commenter “footsore” linked to an article regarding usury (charging of interest) and how and why it become ‘respectable’  (**cough cough**) after a long history of prohibition, restriction and generally bad press.

Of money and morals:   Moneylending has been taboo for most of human history. So how did usury stop being a sin and become respectable finance?

Below is a quick response from the Glass Pyramid to the general theme of the article. Some modifications to the original comment on Macrobusiness have been made.

One thing we should all be able to agree on, whether or not we agree that all usury or the charging of interest on loans is a problem, is that the charging of interest in at least some circumstances warrants very careful regulation if not complete eradication.

For example, payday lending, loan sharking and consumer credit generally are all areas considered to require copious regulation.

One area, often overlooked, where it should be beyond argument that the charging of interest is totally inappropriate is the creation of public money.  By public money I simply refer to money that is given specific or effective status at law as public money.  There is no need to bog down this article with the minutiae of bank credit v central bank reserves and whether or not there is a meaningful distinction.

Currently there are two primary sources of “public money”.

The public sector is the source most people understand, and the other source, and by far the larger of the two, are the private banks. Approximately 94% of what is ‘effectively’ public money is created by the private banks.

If you have ever wondered what really makes a bank a bank, it is the privileged status that is given to the IOUs or promises issued by them.  When a bank grants you a loan it is really only giving you a promise that it will honour payments made by you that draw upon that promise.

While it is no surprise that private banks charge interest / usury when they create credit (honour drawings on a loan) that is treated at law as if it were public money, it is simply bizarre that the government is forced (by nothing more than convention) to pay interest/usury when it creates genuine public money.

Why on earth do we force the government to pay interest on the creation of something that it is perfectly capable of creating without charge?  If the government wishes to ‘spend’ money it can do so simply by taxing or creating the money as required – or asking the RBA to make appropriate entries in its ES account.

When we talk about government ‘borrowing’ from banks and others to fund a fiscal deficit we are talking about a scam of the highest order.

100% Public Money

Governments executing the most basic and fundamental obligations of government are more than capable of producing 100% of the public money an economy might require and this process need not involve the imposition of interest/usury at all.

Governments  would simply spend what they need to spend and then tax back that which is necessary to avoid the inflation that might otherwise result from too much money created and now circulating in the economy.

If the economy is growing quickly and a lack of money to support that growing level of economic activity is producing deflationary pressures the government will simply tax less or spend more and thereby introduce more money into circulation.   If inflationary pressures are building the government will simply reduce the size of the deficit or perhaps run a surplus.

This is not “magic money tree” economics as avoiding inflation (or deflation) remains as a very real constraint on government policy and action.

The RBA “interest rate” fiddling model is a failure

Government management of inflation primarily via fiscal policy is a much simpler task than the task that is currently attempted by the RBA, where it tries to manage inflation/deflation via the complex mechanism of fiddling with the interbank overnight interest rate and hoping that these changes transmit to the broader economy in a way that is productive, equitable and fair to all citizens.

How much more evidence do we need that the current RBA model of monetary management by fiddling with the overnight rate is a dismal failure?

  • Inflated and bloated housing asset prices
  • Growing levels of inequality and distortions in the distribution of wealth
  • Record levels of household debt
  • Record levels of foreign debt
  • Record sales of Australian assets, businesses and industries offshore
  • Rapidly rising levels of public sector debt
  • A decline in productive economic activity
  • A rapid increase in unproductive economic activity centred around leveraged speculation.

Forcing governments to ‘borrow’ from the private sector.

The one thing we do not need is to continue the current farce whereby the government is forced to “borrow” from the banks or other individuals by selling bonds and paying interest on those “borrowings”.

If for no other reason than that these transactions do not really involve borrowing at all as the purchase of the bonds by banks often requires offsetting action by the RBA. The Reserve Bank usually has little choice but to ‘buy’ bonds from the banks in order to ensure that the target rate is not distorted by the impact of government ‘borrowing’ reducing the ES account balances of the private banks when the banks pay for the ‘bonds’.

When the RBA “buys” bonds from the banks it creates the money required to do so in the form of accounting entries to the selling banks ES account.  These entries increase the ES balances and remove the downward pressure resulting from the government bond sales.

As the government spends the proceeds of the bond sales and these flow back into the Bank ES accounts, the RBA then reverses the process by selling bonds to the banks to reduce their ES account balances.  All of these transactions involve the payment of interest that would not otherwise be necessary.

The simple alternative is that the government simply directs the RBA to credit the governments ES accounts as required by the fiscal policy that has been determined necessary to avoid inflation or deflation.   The corresponding debt would be made to a RBA account called something like “100% Public Money in circulation” account.

Note:   There may be some benefit in the government continuing to conduct some bond sales and purchases on a limited scale, if the government wishes to inject or remove public money from the economy at short notice, but this is very different to essentially requiring ALL government deficit spending to be financed with bond sales.

Private individuals borrowing and lending 100% public money

So if we eradicate usury from the creation of 100% public money what about other transactions?

If private individuals wish to borrow or lend quantities of 100% public money created as above and charge interest when doing so, this is unlikely to present a major problem as the government can take into account changes in the tendency to save or spend public money when making decisions on future government expenditure and taxation.  In other words the government can readily create additional 100% public money and stymie those who might seek to “hoard”.

If people want to hoard or save more in their deposit accounts and/or mattresses and effectively remove it from active circulation the government will be free to run a larger deficit. Likewise if those mattresses start give up their savings or savers become spenders, the government can take that into account as well as reduce the rate of creation of 100% public money.

This does not mean that individuals or organisations charging interest on 100% public money will not present potential problems that will require regulation but regulating these transactions to limit their harm is unlikely to be a major difficulty when the government has a monopoly on the creation and removal of public money from circulation.

In practice the rate of interest that anyone can charge to lend 100% Public Money will be limited because the government will be always able to counteract a shortage.

First step to a more equitable and fair economic model

If we want to make some progress towards a more equitable and fair economic model a very good first step is ending the farce that is requiring a government to ‘borrow’ – often from offshore parties – to finance a deficit.

Government deficit financing by bond sales does nothing more than bake usury into the monetary model from the foundations up.

Fixing this fundamentally defective model of public money is the key project.

Regulating private transactions that charge interest / usury is likely to still be required (pay day lending, loan sharking etc) but without usury baked into Public Money creation the issue of usury in private transactions (that may involve private money) is less likely to be an issue simply because there will now be a genuine usury free public money option.

But who will be the losers if such a reform was undertaken?

And yes you can expert the FIRE sector and its many varied minions, apologists and trolls to unleash hordes of flying monkeys the moment anyone suggests such a simple and obvious reform.

Oh and yes this does mean that the privilege enjoyed by the banks with regard to the status of the credit they extend would cease. No harm in that – there is no good argument why one particular class of private credit by one class of private organisation or individuals should be given the protection of the state.

Let the bankers go free to create their own credit, IOUs, promises to pay and let them try and find a market for them.

At least they will no longer have to whine about the government (APRA) regulating how they exercise their credit creation “privilege” or taxing it in the form of Bank Levies and other taxes.

If our Big 5 Banks really were as brilliant and helpful to Australia as they try to claim they would happily surrender their credit creation privileges and seek the introduction of a model where public money is a monopoly of the public sectors and the banks are nothing more than intermediaries of that public money.

If they wish to create their own genuine private money and issue private banknotes or private cyber currencies like bitcoin they should have every freedom to do so.

Competition between 100% public money and private money will be good for both.

A bit of choice for the public in something as important as money is just what this century needs.

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